DJIA Composition - Good Observations

[oddlots]

This kind of surprised the hell out of me... (see underlined sections.)

Bianco: The Dow is Distorted
January 21, 2009

Guest commentary by James A. Bianco, Chief Executive Officer, of Bianco Research, LLC

Comment - The Dow Jones Industrial Average (DJIA) is a price weighted index. The divisor for the DJIA is 7.964782. That means that every $1 a DJIA stock loses, the index loses 7.96 points, regardless of the company's market capitalization.

Dow Jones, the keeper of the DJIA, has an unwritten rule that any DJIA stock that gets below $10 gets tossed out. As of last night's close (January 20), The DJIA had the following stocks less than $10...

Citi (C) = $2.80

GM (GM) = $3.50

B of A (BAC) = $5.10

Alcoa (AA) = $8.35

If all four of these stocks went to zero on today's open, the DJIA would lose only 157.3 points.

The financials in the DJIA are...

Citi (C) = $2.80

B of A (

BAC) = $5.10

Amex (AXP) = 15.60

JP Morgan (JPM) = $18.09

If every financial stock in the DJIA went to zero on today's open, it would only lose 331.25 points, less than it lost yesterday (332.13 points).

If you want to add GE into the financial sector, a debatable proposition, then:

GE (GE) = $12.93

If the four financial stocks above and GE opened at zero today, the DJIA would only lose 434.24 points.

The reason the DJIA is outperforming on the downside is the index committee is not doing it job and replacing sub-$10 stocks and the financials are so beaten up that they cannot push the index much lower.

So what is driving the index? The highest priced stocks:

IBM (IBM) = $81.98

Exxon (XOM) = $76.29

Chevron (CHV) = $68.31

P&G (PG) = $57.34

McDonalds (MCD) = $57.07

J&J (JNJ) = $56.75

3M (MMM) = $53.92

Wal-Mart (WMT) = $50.56

For instance if all the sub-$10 stocks listed above, all the financials listed above and GE opened at zero, the DJIA loses 528.63 points. To repeat if C, BAC, GM, AA, JPM, AXP and GE all open at zero, the DJIA loses 528.63 points.

If IBM opens at zero, it loses 652.95 points. So, the DJIA says that IBM has more influence on the index than all the financials, autos, GE and Alcoa combined.

The DJIA is not normal as the Index committee is not doing their job during this crisis, possibly because to the political fallout o f kicking out a Citi or GM. As a result, this index is now severely distorted as it has a tiny weighing in financials and autos.

[cmraynew]

Re: DJIA Composition - Good Observations

So we should go long the index and short the high priced stocks--XOM, WMT, JNJ, etc.? Because the index won't fall as much as it should, unless the big names fall?

But can't they just drop the low priced stocks and intro replacements?

[oddlots]

Re: DJIA Composition - Good Observations

Not suggesting a trade. Just thought it was surprising what the index actually represents at this point. And kind of clarifies what would have to happen to get the index down to its target of around 5000-6000... (That "target" is just a composite of various bearish predictions that I'm in sympathy with, i.e., can't be bothered to try and search for any of them.) ... and so clarifies what must happen if you are bearish medium term.

Substitutions and deletions in the index may change all that as you suggest I suppose.

[FRED]

Re: DJIA Composition - Good Observations

Not suggesting a trade. Just thought it was surprising what the index actually represents at this point. And kind of clarifies what would have to happen to get the index down to its target of around 5000-6000... (That "target" is just a composite of various bearish predictions that I'm in sympathy with, i.e., can't be bothered to try and search for any of them.) ... and so clarifies what must happen if you are bearish medium term.

Substitutions and deletions in the index may change all that as you suggest I suppose.

To come up with a Real, Real DOW, then, we'd have to go over each of the 50 stocks and calculate the actual total index value? Maybe worth the effort once a week to readers?

[Chomsky]

Re: DJIA Composition - Good Observations

To come up with a Real, Real DOW, then, we'd have to go over each of the 50 stocks and calculate the actual total index value? Maybe worth the effort once a week to readers?

It's 30 stocks, not 50, right? Makes it even easier.

[rabot10]

Re: DJIA Composition - Good Observations

Very good information. Thanks

rick